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Published on August 30, 2007

 

The Bank of Thailand (BOT) has decided to leave its key policy rate unchanged at 3.25 per cent. This is not totally unexpected. Some, including Deputy Prime Minister Kosit Panpiemras, earlier urged banking authorities to cut the rate to stimulate domestic demand amid the uncertain economic outlook and the increased risks brought by the US sub-prime loan problems. For now it appears that the BOT would like to keep its interest-rate policy neutral and watch how the US sub-prime problems develop. The referendum on the charter has already passed, much to the relief of financial markets, which have already absorbed this piece of good news. Everybody is looking forward to the general election in the second half of December. This bodes well for financial markets and will boost consumer and investor confidence. Hopefully the Thai economy will return to its normal growth path next year after we have an elected government.

More importantly, the BOT appears to be content concerning the stabilisation of the baht. The Thai currency has been stabilised, moving down to the more comfortable range of Bt34.33-to-Bt34.37 to the US dollar. This is due largely to capital outflow in July as a result of the US sub-prime loan problem. Foreign-fund managers have been shifting their money back home in order to meet redemption from their unit trust-holders and also to reduce risks.

The sub-prime debacle has saved the BOT for now, otherwise it would have been forced to dig into its own resources to curb the baht's rise. By keeping its policy rate neutral at this point, the BOT will have more room to cut the rate further if the Thai financial system were to be affected by the US sub-prime turmoil. The dust has not yet settled and financial institutions, particularly those in Europe, will suffer more damage, but it remains uncertain how the credit squeeze arising from the turmoil will affect Asia and Thailand.

However, Thai business people do not care much about the interest-rate policy at this point because Thai rates have already been very low. Another 25 or 50 basis points would not make a big difference to corporate borrowers. They are complaining that despite the ample liquidity, they can't access loans at all since commercial banks have become very restrictive with their lending policies. The banks, in the meantime, need to protect themselves by holding back lending growth for fear of the uncertain economic outlook.

The central bank is still keeping an eye on inflationary pressure. Now inflation appears to be under control and has surprisingly been on the downside in the second quarter of this year. In fact, prices in July fell 3.4 per cent month-on-month, pushing the average inflation rate in the first half of this year down to just 1.1 per cent.

DBS Research yesterday cautioned: "This, however, is a temporary phenomenon in all likelihood. Given cost pressures from elevated oil and commodity prices, as well as high capacity utilisation rates, we expect businesses to be keen to pass higher costs to consumers once the political situation returns to normal. Indeed, by our estimates, inflation expectations should be around 2.7-3.0 per cent by end-2008 and the real repurchase rate ought to be in the range of another 200 basis point increase.

"By extension, this implies that the policy rate should be 4.7-5 per cent by end 2008. This would require +200 basis point rate hike through 2008. While this is feasible, this would mean pretty rapid rate hikes through 2008. As such, we think the BOT should be more forward looking and assess whether they can reverse the easing bias without hurting consumers and investors next year."

This was probably in the back of the minds of BOT officials when they decided to leave the policy rate unchanged. If consumer and investor confidence, dampened by recent political shocks, were to be revived next year, inflation would start to creep back. By that time, it might be too late to reverse its monetary policy by raising the rate to curb inflation if it were to be too lax with its interest-rate policy now.

Suchada Kirakul, the assistant-governor of the BOT, said yesterday that it is too early to say whether the export slowdown is a temporary blip or the beginning of a trend. But she said she believed that the Thai economy is embarking on a gradual recovery in the second half of this year, which would make a full-year growth rate of 4-to 5-per cent achievable. This is so far so good.